Law Office of Jeffrey A. Moss

Common Mistakes in Entity Formation

Over 25 years I have learned that people often make the same mistakes over and over again in forming their new business, especially if doing so involves partners, investors or filings with the Secretary of State (to create a new corporation or limited liability company, for instance). Let me share with you 8 suggestions to new business owners that my experience has taught me are important.

  1. Identify/Measure Your Market. Great ideas and motivated persons often mix to create action that is not based on the business environment. Take a moment and think about your business, the market and what you have in the way of resources to penetrate that market. You may want to do a formal business plan (especially if you will be seeking professional management or investors) or just an outline of your vision. Either way having a clearer picture of where you are going and how you are going to get there will help you to reach your goals and will benefit any legal planning needed.
  2. Determine Your Ownership Structure. It seems obvious, but determining how you are going to own, who is going to own and how your new business will operate will affect the entity structure that best suits that vision. Some investors will require that you forma corporations, the more familiar investment structure. Others may not be able to do so for tax purposes. You may want the less restrictive, less formal management structure that an LLC provides, while your Uncle Louie (who has agreed to invest in your new venture) may want a more formal structure.
  3. Align your Vision with Partners/Investors. Aligning expectations is necessary to assure success and reduce potential disputes/tensions with partners and investors. A partner’s or investor’s expectations are the benchmark that all future activities, demands and returns will be based on, so it is important that who will be doing what (in the case of partners) and what the returns are expected in terms of amount and time frame (for investors) be clearly understood before relationships are cemented. Remember, going into business with others is like a marriage, and can be even more costly to remove yourself from. Aligning expectations and properly documenting them also gives you something to look back on when disputes or tensions rise.
  4. Select an Entity Structure that is in Alignment with your Goals. In addition to considering the taxation and operational benefits and detriments, and the regulatory and statutory requirements, of the different entity options, consider your goals and how each entity will either promote or impede those goals. For instance, if your exit strategy is an Initial Public Offering or a Merger, you may want to choose a Subchapter C corporation over a Subchapter S corporation or an LLC. The tax or nationality interests of investors may dictate that a limited partnership may be a better alternative than a corporation. Chose your entity type with a view not only for the immediate future, but for your end game vision.
  5. Understand What You are Getting. Knowing who is setting up your entity and what they can do is important, whether you use an attorney or internet service. For instance, I have had clients who were surprised when it took 5 weeks to get back the filed registration papers they sent to the Secretary of State via the mail (in my practice I usually have the papers filed the next business day and receive them back in 4 business days, sometimes fewer). Since you cannot get a federal tax number without the incorporation date and cannot get a bank account without the tax number, not having the experience to avoid this pitfall can result in substantial delays in getting your business started. Be sure you understand how long it will take to form your entity if you use an internet service, and ask any attorney you may use for the same information. Experience in the day to day process of entity registration will speed up that process.
  6. Follow the Formalities. The operation of any legal entity requires certain formalities (although to varying degrees – LLC’s are usually easier to operate than corporations). While following the required formalities is tedious and sometimes a bit confounding, not following them can have severe repercussions. Failing to file documents with the Secretary of State can result in penalties of $250 and subsequent suspension for failure to pay those penalties. Failing to keep entity finances separate from your own or to issue stock in a corporation can result in a loss of the liability shield that otherwise would protect your personal assets. Failing to follow the formalities can also result in inadequate documentation of corporate decisions and responsibilities, which could come back to haunt you.
  7. Be Penny Wise, not Pound Foolish. I am not one to encourage folks to see an attorney every time they take a step, but I have seen too many clients face problems with a transaction or get buried in litigation costs when having seen an attorney for an hour would have avoided it all. This advice always takes on more importance when that one hour of time is weighed against having a disadvantageous contract enforced against you, or when you have to pay a litigation bill every month.  A related suggestion is to…
  8. Find the Right Attorney Early On. What do you want to be doing when an important issue arises that may require immediate attention and the advice of a lawyer? You can start calling friends or looking in the phone book for referrals and not know if you will find someone you are comfortable with. Or you could pick up the phone and call an attorney who knows you and your business and you are comfortable with. Avoid that last minute, frantic rush to locate someone in an emergency that will be able to work with you on your problem and find an attorney early on that has both the legal background and the business experience necessary to appreciate your business needs and goals. Having someone at hand makes the short call to verify the appropriateness of a certain action easier or the review of a proposed contract more likely to fit into your business goals.

Grabisch v. LMPOA

To the Members of the Larkspur Marina Property Owner’s Association:

There have been a number of statements regarding Alfred Grabisch’s willingness to settle, the Association’s willingness to settle and and a supposed “agreement” Nelson Barry had with the City regarding Inlet Gate Project costs. Many of these statements have been inaccurate, if not false. These statements have made many believe that Mr. Grabish has stood in the way of resolving this dispute, and that the Board has been actively trying to do so only to be rebuffed by Mr. Grabisch. This is not true.

If you are interested in the truth, please see my letter of May 10 and the other documents linked below. The documents support my May 10 letter and prove the inaccuracy of Mr. Katz’s statements regarding settlement. The deposition of Nelson Barry makes clear that Mr. Katz has not been accurate when he attributes either statements or actions to Mr. Barry. Mr. Grabisch felt that as Members of the LMPOA you had a right to know the truth.

I respectfully suggest that you review my May 10 letter and documents supporting it, then ask Mr. Katz to show you any correspondence from the Association attorney to me regarding settlement. I would also ask that you review Mr. Barry’s deposition statements regarding the preconstruction costs “agreement” Mr. Katz has touted. Such an inquiry should satisfy you as to where the truth lies. If you have any questions please drop me a note at Jeff@jeffmoss.com.

My May 10 letter explains the facts

My Letter of December 2

My letter of January 7

My letter of March 9

Mr. Tice’s email of April 1

My email of April 8

My email of April 16

My email of April 17

Selected Pages from Deposition of Nelson Barry

Deposition of Nelson Barry.